Retirement Planning Options for the Self-Employed

Retirement Planning Options for the Self-Employed

Working for yourself can be both freeing and rewarding.

The downside is that you’re more responsible for dealing with things like taxes and retirement plans. If you’re new to being self-employed, you may need a little help with those things.

Saving for retirement is essential, and when you’re on your own, you have the potential to save in any way you’d like. You have to make an informed decision on a retirement plan, though, and that can be difficult.

What’s the difference between a SEP vs. Simple IRA? Would one of those options be better for you than a 401(k)? Should I use a ROTH? The questions keep coming, don’t they?

We’ll cover those questions in more detail and give you an idea of where to start in the comprehensive guide below.

The Retirement Plan for You

People always tell you to plan for retirement. Especially those who are of retirement age and haven’t yet been able to stop working. While their warnings stir something inside of us, entrepreneurs are typically more focused on their next business move.

Retirement feels so far away that it doesn’t need to be thought of, but when you start crunching the numbers, retirement seems to be coming up faster than you expected.

People usually tell you to have a million dollars saved for retirement or at least ten times your yearly salary. Those numbers are just things people throw out to sound informed. The reality is that there’s no “magic” number.

It all depends on you.

How Much Will You Need?

We’ll get to the logistics of saving in a moment. What you need to do first is get a grasp of how much you should expect to live off of in retirement.

You might hope to be detached from your possessions by the time you reach old age, living only off of what you need to find inner peace. To that, we say, “good luck.” The thing is, we don’t just stop wanting things when we retire.

We might want more. While our daily expenses may diminish in retirement, we typically spend more on extra activities that occupy our time. Overall, though, you should be able to sustain yourself off four-fifths of what you made while you were working.

So, if you made $100,000 a year in your career, you should try to have $80,000  for each year of your retirement. You can try to work down your costs before you retire but keep in mind that you will want to enjoy your time and enjoyment isn’t always cheap!

It would help if you also considered longevity. Take a cold, hard look at your family history and how long you can expect to stay around. It sounds morbid, but you’ll want to have finances to sustain you through your old age.

When you break it down that way, the mountain of savings begins to change shape. Say you’ll live in retirement for 30 years, spending $80,000 per year. That means your income needs to amount, through interest or direct savings, to $2,400,000.

That retirement conversation seems a little more relevant now, doesn’t it? So, you’re self-employed. How can you reasonably save that much money over time?

By understanding your options.

SEP vs. Simple IRA

An IRA is an individual retirement account. It’s what it sounds like but, the acronym can shroud the term with a feeling of importance and doom.

It’s nothing like that. It’s a way for you to put money away and set yourself up for the future. Different IRAs hold different perks, and your situation should determine which one you choose.


The “SEP” stands for simplified employee pension. These plans have a low-level of requirement which makes them enticing to some small business owners. Your employees only need to be 21 years old, have three years of employment with your company, and receive at least $600 in compensation.

Pretty easy to meet those requirements, right?

The main perk of simplified employee pension IRAs is the way that they handle employees. If the IRS considers your employees eligible for your plan, you must contribute a percentage of their income that is equal to the percentage that you take from your income.

So, if you put 15 percent away each month, you have to do the same for your employees. Employees still own and control their accounts, but the ratio of compensation saved must be the same initially.

These plans are great for those who have relatively small businesses. The retirement plan allows for a good deal of flexibility and a much higher rate of saving than a simple IRA. This also makes a great fit for those who don’t have any employees.

You can save almost ten times the amount that you can with a traditional IRA. SEP IRAs allow you to set aside up to 25 percent of you and your employees’ compensation. The maximum is $54,000 a year.

If you’re a self-employed individual with no employees, this plan might be the best for you if you’re looking to stockpile large amounts of savings. If you’re someone who is approaching retirement and needs to save fast, go with a SEP IRA. You may even be a good candidate for a defined benefit plan, but that is beyond the scope of this article.

Simple IRAs

Simple or traditional IRAs are the most common retirement plans that individual savers use. These plans allow you to put income into your retirement account before being taxed.

The account holder directs the funds, possibly achieving a return from investments. While you can invest 100 percent of your income, you can only do so up to a certain maximum. Each year, you can put no more than $6,500 into the account if you’re below the age of 50.

Past the age of 50, you get some more freedom to contribute. However, you’re unable to contribute anything once you reach the age of 70 years and six months. The contributions that you do make may be tax deductible, depending on the account holders tax bracket and filing status.

You won’t be taxed at all until you make a withdrawal from the account because the IRS doesn’t gather capital gains or take income taxes out until that point.

What is a “Roth IRA?”

A Roth IRA isn’t too different from a simple one. It is a new version of the IRA that came from the Taxpayer Relief Act of 1997. The main difference is the handling of taxes, which is pretty significant.

While contributions to a Roth IRA are not tax-deductible, you aren’t required to pay income taxes when you make a withdrawal. Pretty nice, considering you may be withdrawing millions of dollars over the course of your retirement. A Roth IRA also helps you if you aren’t a big spender.

Simple and SEP IRAs have a minimum spending requirement once the account holder reaches 70 years and six months. Remember how we said that you weren’t able to contribute after that point? Each account will have a number that must be withdrawn from the account each year as well.

Roth IRAs don’t require you to withdraw anything at any point. This can help you save for your family and loved who will inherent your funds.

How About a 401(k)?

A 401(k) should be on your mind if you’re running a business. 401(k)’s are great benefit options, as they help employees save and live during retirement. So it is great if you have employees, but it may make sense if your solo as well.

Plans are often supported by portions of the employee’s check that are deducted and placed into an account each month. This is the same as any other plan. In many cases, though, employers will match the employee’s contribution to the 401(k) account.

Funds in the account are typically invested and continue to grow while the employee works for the company. Additionally, the employee is not required to pay taxes on investment growth.

These plans are divided into two main categories: defined benefit and defined contribution plans. Defined benefit plans require that employers pay out specific benefits to employees that have retired. This comes in the form of a monthly payment and is usually based on salary and other requirements specific to the plan. Again, this is a topic for another day as the complexity goes up dramatically with this option.

Defined contribution plans are typically those in which the employer contributes funds to employee retirement accounts. What will be given during retirement is not defined in these plans, only what will be contributed by the employer. Many people prefer defined benefit plans because they ensure specific payouts during retirement. In recent years companies, the government and other organizations are shying away from taking the risk and expense of a defined benefit plan. They would much prefer to move this risk to the employee.

The Beauty of Compound Interest

Even with monthly contributions to an IRA, millions of dollars in savings seems unreasonable, right? Maybe not.

It matters that you start saving early and continue to do so. If your savings are invested at a rate of 7 percent interest, you can double your money every decade. This means that if you put $50,000 away at age 30, it would turn into $748,000 if you didn’t touch it until age 70.

Get Some Help Planning

The general idea of these plans is pretty simple, but things can get complicated when it comes to your specific situation. Understanding the difference between a SEP vs. Simple IRA, if a 401(k) is right for you, or how to use a ROTH is only the beginning. It never hurts to have a helping hand when you’re working through your finances. It could be time to enlist the help of an experienced fiduciary financial advisor.

If you’re interested in getting any help planning for your retirement, contact us, and we’d be happy to help.